Types of Money Market Instruments in India
The money market is a monetary system of lending and borrowing of short-term funds. After the globalization initiative in 1992, India has witnessed a growth in its money markets. Financial institutions have been employing money market instruments to finance the short-term monetary requirements of industries such as agriculture, finance and manufacturing. The money markets have performed well in the past 20 years.
The Reserve Bank of India (RBI) has been playing the key role of regulator and controller of such money markets. The RBI intervenes regularly to curb crisis situations, such as liquidity crunching in the markets, by reducing the cash reserve ratio (CRR) or by pumping in more money.
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Types of Money Market Instruments in India
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Money market instruments provide for borrowers' short-term needs and gives needed liquidity to lenders. The types of money market instruments are treasury bills, repurchase agreements, commercial papers, certificate of deposit, and banker's acceptance.
Treasury Bills (T-Bills)
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Treasury bills began being issued by the Indian government in 1917. They are short-term instruments issued by the Reserve Bank of India. They are one of the safest money market instruments because they are risk free, but the returns from this instrument are not very large. The primary as well as the secondary markets circulate this instrument. They have 3-month, 6-month and 1-year maturity periods. T-bills are issued with a separate price from their face value. The face value is achieved upon maturity, as is the interest earned on the buy value. The buy value is set by a bidding process in auctions.
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Repurchase Agreements
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Repurchase agreements are also known as repos. They are short-term loans that buyers and sellers agree to sell and repurchase. As of 1992, repo transactions are allowed only between RBI-approved securities such as state and central government securities, T-bills, PSU bonds, FI bonds and corporate bonds. Repurchase agreements are sold by sellers with a promise of purchasing them back at a given price and on a given date in the future. The buyer will also purchase the securities and other instruments in the repurchase agreement with a promise of selling them back to the seller.
Commercial Papers
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Commercial papers are promissory notes that are unsecured and issued by companies and financial institutions. They are issued at a discounted rate of their face value. They have a fixed maturity of 1 to 270 days. They are issued for financing of inventories, accounts receivables, and settling short-term liabilities or loans. Commercial papers yield higher returns than T-bills. They are usually issued by companies with strong credit ratings, as these instruments are not backed by collateral. They are usually issued by corporations to raise working capital and are actively traded in the secondary market. Commercial papers were first issued in the Indian money market in 1990.
Certificate of Deposit
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A certificate or deposit is a short-term borrowing note, like a promissory note, in the form of a certificate. It enables the bearer to receive interest. It has a maturity date, a fixed rate of interest and a fixed value. It usually has a term between 3 months and 5 years. The funds cannot be withdrawn on demand, but it can be liquidated on payment of a penalty. The returns are higher than T-bills as the risk is higher. Returns are based on an annual percentage yield (APY) or annual percentage rate (APR). In APY, interest is gained by compounded interest calculation, whereas in APR simple interest calculation is done to calculate the return.The certificate of deposit was first introduced to the money market of India in 1989.
Banker's Acceptance
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A banker's acceptance is a short-term investment plan created by a company or firm with a guarantee from a bank. It is a guarantee from the bank that a buyer will pay the seller at a future date. A good credit rating is required by the company or firm drawing the bill. The terms for these instruments are usually 90 days, but this period can vary between 30 and 180 days. Companies use the acceptance as a time draft for financing imports, exports and other trade
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the ultimate indian bond market.
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